Is the Western oil & gas ecosystem collapsing?

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As the crude oil prices start their second month under the $40 a barrel barrier, the large-scale effects of low oil prices are starting to become apparent. Chesapeake Energy, the second-largest gas producer in the US, and Saipem, the Italian oil services company, took well-covered large hits in the stock markets yesterday and today – Chesapeake’s stock is now down 51% over the last month and Saipem’s is down 48%. Chesapeake had to dismiss rumours that it hired Kirkland & Ellis to restructure its debt while Bernstein advised investors to stay away from Saipem’s planned capital raise, according to Les Echos.

We may thus be entering a new phase in the ‘deep pocket’ war that the oil market has become over the last few months. The cash reserves that oil companies had put aside for ‘tough times’ are running empty, and the cracks we are witnessing today are probably only the first ones in line.

The risk of contagion is indeed not negligible. As rightly pointed out in this article from Reuters, Chesapeake is legally bound to oil infrastructure providers, for instance pipelines, through significant (several billion dollars a year) long-term contracts. No surprise then to note that Williams Companies’ share price was also down 35% for the today (9th February) and almost 50% down over the past 30 days.

So why not a pure write-off? First, these companies can rely on a cushion of tangible and partly re-deployable assets. Since the start of the year, companies in the industry – including Saudi Aramco – have been said to consider either raising capital (including through an IPO in the case of Aramco) or selling assets – both methods have equivalent impacts on net debt. The latter is a short-term solution that Chesapeake could well be tempted to consider. Second, the evolution of the share price is also a proxy for the expected evolution of the oil price in the future: shall the share of unprofitable US production sources remain high in the long term, the investors will lose faith in the potential recovery of the market and may decide to further turn their back on O&G stocks.

Update (10/02): This very interesting piece of analysis from Wood Mackenzie confirms the $30 a barrel environment leads a very large share of oil fields to be run at a loss.

Update (29/02): Chesapeake reported last week a $14.9bn loss. At the same time, Les Echos reported that petrol funds were to sell $400bn in assets.